Home owners could be in line for compensation after the Financial Conduct Authority said lenders had unfairly included mortgage arrears in monthly repayments.

The City watchdog said that as many as 750,000 mortgage holders may have been affected and some could be entitled to redress as they would have been paying a higher mortgage payment than they should.

Lenders have been told to contact all affected customers by June 30, 2017, and to start remediation 12 months after.

A consultation launched by the regulator said firms may be breaking rules banning them from adding arrears balances to monthly mortgage repayments without the required consent and if it would have a material impact on a customer.

This practice is known as automatic capitalisation and the FCA says many firms using old calculation systems may still be doing this.

The FCA hasn’t disclosed what prompted it to look at this issue but says it analysed six unnamed firms that are representative of the sector and alongside an industry working group they assessed a sample of mortgage customers.

Jonathan Davidson, director of supervision for retail and authorisations at the FCA, said: “Even if inadvertent, automatic capitalisation of arrears can lead to poor customer outcomes and firms need to put this right, and make sure the practice stops.

“Customers do not have to take any action at this stage, as firms will contact them directly. Firms should start identifying affected customers immediately and not wait until the finalised guidance is published.

“To prevent similar issues to this one occurring in the future, firms need to ensure that all systems are reviewed when considering the implications of a rule change.”

Responding to the consultation, Paul Smee, director general of the Council of Mortgage Lenders, said: “Those lenders who used the arrears calculation methodology now identified as problematic did so in good faith, believing that they complied with the rules and were acting in customer interests.

“They are fully committed to delivering fair outcomes for all customers, past and present. Customers do not need to do anything.

“Once lenders have digested the regulator’s consultation and determined the most appropriate way to undertake the expected remediation, they will be in touch directly with affected customers.”